Freedom Holding Corp. — Form 10-Q Summary
Reporting period: Three months ended June 30, 2022, the company’s fiscal 2023 first quarter. The filing was signed August 9, 2022. Unless noted otherwise, amounts below are U.S. dollars.
Business context and financial performance
Freedom Holding provides brokerage, trading, banking, investment banking and insurance services, principally across Eurasia. It reports five geographic segments: Central Asia, Europe, the U.S., Russia and Middle East/Caucasus. The company acquired two Kazakhstan insurance companies from its controlling shareholder in May; prior periods were recast for the common-control transaction.
| Metric | Q1 FY2023 | Prior-year quarter | Change |
|---|---|---|---|
| Net revenue | $226.6 million | $145.7 million | +55% |
| Total expenses | $155.5 million | $84.7 million | +84% |
| Income before tax | $71.1 million | $61.0 million | +17% |
| Net income | $59.1 million | $55.4 million | +7% |
| Net income attributable to common shareholders | $61.1 million | $55.4 million | +10% |
| Basic and diluted EPS | $0.99 | $0.93 | +$0.06 |
Net margin was approximately 26% versus 38% a year earlier, as expense growth outpaced revenue growth. Revenue gains included fee and commission income of $131.6 million (+35%), interest income of $49.5 million (+101%), insurance underwriting income of $24.2 million (+72%) and trading securities gains of $15.6 million (+45%). Operating expenses rose 97% to $65.5 million; interest expense rose 178% to $45.8 million. The effective tax rate increased to 16.9% from 9.3%.
By segment, revenue was $98.9 million in Central Asia (+92%), $69.5 million in Europe (-4%), $54.7 million in Russia (+155%) and $3.6 million in the U.S. Middle East/Caucasus was not yet generating material revenue. The U.S. segment reported a $7.2 million pretax loss; Central Asia, Europe and Russia reported pretax income.
Balance sheet, liquidity and cash flow
- At June 30, total assets were $3.80 billion, total liabilities $3.19 billion and shareholders’ equity $606.9 million.
- Cash and cash equivalents were $905.7 million; restricted cash was $375.1 million. Cash, cash equivalents and restricted cash totaled $1.281 billion, including customer and other restricted funds.
- Trading securities were $1.420 billion. Securities repurchase obligations were $1.030 billion, up from $872.7 million at March 31; $1.030 billion, or 72% of proprietary trading securities, was subject to repurchase obligations.
- Debt securities issued totaled $115.6 million; loans received were $5.4 million. Debt securities included notes maturing in December 2022 and January 2023, as well as bonds due in 2026. Operating lease liabilities were $23.6 million.
- Management-defined net liquid assets were $2.887 billion. The company reported that subsidiaries subject to minimum capital requirements exceeded those requirements; aggregate requirements were approximately $37.1 million.
- Operating cash flow was negative $229.7 million, compared with negative $72.5 million a year earlier. Investing cash flow was negative $57.6 million; financing cash flow was positive $146.4 million. A $241.7 million favorable foreign-exchange effect contributed to the $100.8 million net increase in cash, cash equivalents and restricted cash.
Material changes, outlook and risks
- Management attributed operating cash outflows mainly to higher margin receivables, customer activity, and $126.6 million of cash used for increased loans issued. Interest expense also increased as the company expanded repo financing and customer deposits.
- Management is seeking to sell its Russian subsidiaries, Freedom RU and Freedom Bank RU, due to the Russia/Ukraine conflict, sanctions and Russian countersanctions. A Russian exit restriction announced August 5, 2022 could impair a sale. Pending a compliant buyer and transaction, the company said it would fund maintenance and existing operations, not new projects or expansion.
- The company plans a corporate restructuring to place Freedom KZ and its wholly owned subsidiaries directly under FRHC, subject to Kazakh regulatory approval; completion was anticipated during fiscal 2023. Management also described planned acquisitions of Paybox, ReKassa and Ticketon, with no assurance they will close. No quantitative earnings or revenue guidance was provided.
- Related-party concentration is significant: FFIN Brokerage generated approximately 45% of total revenue, and related-party commission income was $101.6 million. Margin receivables from related parties totaled $174.0 million; a single related-party customer accounted for 33% of net brokerage and other receivables.
- Trading and market risks include a $29.4 million loss associated with the sale of SPBX shares, including reclassification of previously recorded unrealized losses. Two Kazakhstan issuers represented more than 10% each of trading securities: $620.9 million in Ministry of Finance of Kazakhstan securities and $312.2 million in Kazakhstan Sustainability Fund securities.
- A Utah lawsuit concerns disputed ownership of cash distributions and 250,079 company shares connected to a former shareholder’s estate. The court ordered the company not to transfer or dissipate the assets and to deposit them with the court registry after a 90-day identification period. The company denies liability and intends to defend the matter.
- Additional risks include sanctions and geopolitical developments, foreign-exchange and securities-price movements, customer credit and margin exposure, liquidity and collateral risk, regulatory compliance, and insurance underwriting and reinsurance risks. A hypothetical 100-basis-point rise in rates was estimated to reduce portfolio fair value by $63.7 million as of June 30, before any sale of investments.
- The company recast prior-period statements for the May common-control insurance-company acquisition. It recorded the acquisition consideration as $26.6 million payable to the controlling shareholder by September 16, 2022. Management concluded disclosure controls were effective and reported no material change in internal control over financial reporting during the quarter.
Investor verification priorities
- Review the Russian subsidiary sale process, sanctions constraints and the impact of the August 5, 2022 Russian exit restriction.
- Assess the quality and concentration of trading securities, repo collateral, related-party receivables and FFIN Brokerage revenue.
- Reconcile negative operating cash flow with reported liquidity, including restricted/customer cash and ongoing loan growth.
- Verify the insurance acquisition accounting, the $26.6 million related-party payable and the recast comparative statements.
- Track the Utah estate litigation and the company’s obligations regarding the disputed cash and shares.